The first quarter of 2025 represented a significant departure from the market’s calm, fairly consistent march higher since the end of 2022. The S&P 500’s headline decline of 4.3% fails to tell the whole story, as the market started the year with a continued show of strength, advancing by 4.6% through its peak on the 19th of February. Since then, the market has fallen 17% in a month and a half, prompting market observers to note the severity of the decline and flag dubious, attention-grabbing distinctions like “worst week since 2020” and “record two-day wipeout.” The Wall Street Journal couldn’t help but throw fuel on the fire with a recent article titled, “Market Upheaval from Trump’s Tariffs Could Be Just the Beginning.” Or, it could be closer to the end than the beginning. Speculating about the future is just that – speculation.
Each drawdown is painful and feels scary when it happens, and they all have a proximate reason, causing people to think, “How much worse can this situation get?” Today, investors wonder how much the tariffs will weigh on a stretched consumer and also whether other countries will retaliate and make the situation worse, all of which could lead to a recession. This is what decision-making theorist Daniel Kahneman called “the inside view.”
We find it valuable to take “the outside view” on markets. This means that rather than try to figure out how nation states or consumers might behave in response to tariffs, we look at the market’s behavior across its drawdown history over time, regardless of the cause. In this case, the market’s 17% drawdown is already slightly worse than the average intra-year drawdown of 16% since 1928 . Using this framework, a drawdown worsening significantly beyond current levels is certainly possible, but it would likely require significant additional escalations in geopolitical tensions or some unforeseeable issue. Recall that in Trump’s first term, he implemented tariffs in 2018, contributing to a market swoon of 20% at year-end. Monetary policymakers eventually altered course from a tightening cycle to an easing cycle by summer of 2019, but markets had sniffed out the shift ahead of time, recovering all their losses by April of that year. The current tariffs are more severe than those, but that doesn’t necessarily mean the drawdown will be, as any number of things could still happen – other countries could bend the knee, a judge could rule parts of the tariffs illegal, exchange rates continue shifting and the world adapts.
There are too many moving parts of the market to accurately forecast its future, which is why we don’t try; instead, we try to understand how the systems within it work while appreciating that its collective forecasting power exceeds our own. Within that framework, we relentlessly search for ideas that people are likely to pay more for in a few years than they do today, and we use valuation as our primary tool to uncover such opportunities.
If past is any precedent, it would indeed be a surprise to us if within the next 12-18 months, the market did not go on to make a new high, which at time of writing1 implies 21% potential upside from where we sit today.
As always, we remain the largest investors in our strategies, and we appreciate the support and welcome any questions or comments.